Nike Case Study
Case Study Nike Introduction Good morning ladies and gentlemen and thank for taking the time to meet with us. Nike was founded on January 25, 1964 as Blue Ribbon Sports by Bill Bowerman and Philip Knight. The company officially became Nike, Inc. on May 30, 1978. Nike has various products which include footwear as well as other apparel that compliment the former. This accounts for 92 percent of the company’s revenue. The other 8 percent comes from equipment and non Nike brand products, such as Cole Haan.
When we were considering on whether it was more appropriate to use multiple cost of capitals for each segment we believe that they all mostly share similar risk factors. We therefore decided to calculate two different costs of capitals, one using the geometric and the other using the arithmetic method. We believe that Joanna Cohen’s methodology in determining if Nike is currently under or overvalued was incorrect. Today we will show you the mistakes that she made and where we believe there was room for improvement. Finally our analysis will prove that Nike is undervalued and that it’s a strong buy.
Mistakes Joanna Cohen made a few mistakes as she conducted her analysis for the cost of capital for Nike. The first mistake that Ms. Cohen made was that she used book values instead of the market values when computing the weights for the WACC. The second mistake that she made was that she calculated the cost of debt using historical values. We calculated the yield in maturity of the debt as the bond doesn’t mature until the year 2021 but instead of using book values for equity we calculated the market value of equity as well. The third mistake that was made was Ms. Cohen’s method in choosing the beta.
She used the average beta, which is not the most precise beta considering the fact that Nike has been relatively volatile in the financial markets in recent years. The fourth mistake that Ms. Cohen made in deciding what market risk premium to use, she only chose one method which led us to believe that it created a bias conclusion to our next mistake. In the procedure to calculate WACC, Joanna only had one possible cost of equity which gave us only one possible value to determine whether or not the stock is under/overvalued. We found six mistakes or points of improvement in Ms.
Cohen’s analysis. Analysis In our analysis, we decided to try all ways of calculating the WACC. In order to calculate the WACC we need to calculate the cost of debt and cost of equity as well as the weights of these. First, to calculate the market value of debt, we took the current portion of long term debt, added it to the notes payable, and added to the long-term debt as well. Here we get a value of debt of: $1,296. 6. Next, we calculated the market value of equity by multiplying the number of shares outstanding by the current stock price giving us a result of: 11,427. 44.
Using these market values, we calculated our weights of each, which are: 10% for debt and 90% for equity EXHIBIT 8, 11, &12. As you can see, in our analysis we chose to use the market values of each instead of the book values and/or historical cost values. Next, we needed to calculate the cost of equity. We calculated it using CAPM, arithmetic and geometric approaches, earnings of capitalization, and lastly the dividend growth model. When calculating using CAPM, we first need to find the beta. When calculating the beta, we could choose from using daily, weekly, or monthly return data downloaded from yahoo finance.
We choose to use a weekly return with a two year data set from July 1999 to July 2001 EXHIBIT 3 &4. Our reason for doing so was to have a more current beta as the Nike stock is quite volatile as well as eliminating the auto-correlation effect on daily data sets. Our decision to chose both risk premium’s we did so in an effort to keep both WACC’s Geometric and Arithmetic accurate. For the risk free rate we wanted to change it to better replicate the life of a project that would be undertaken by a corporation. Ten years seemed more appropriate opposed to the 20 giving us the 5. 9 percent we used for the risk free rate EXHIBIT 8. We took this data and ran regressions for each. We found that weekly gave us the most accurate beta under these conditions to use for CAPM. The beta that the regression gave us is . 74 EXHIBIT 3. After choosing the beta, we wanted to use both approaches of CAPM to calculate the cost of equity and compare. When using the arithmetic approach, we found that the cost of equity is: 10. 97%. When using the geometric approach we found that the cost of equity is: 9. 78% EXHIBIT 8 PART 2.
We also wanted to include in our analysis finding the cost of equity using the dividend growth model as well as the earnings of capitalization method. When using the dividend growth model we found that the cost of equity is: 6. 64% EXHIBIT 9. The earnings of capitalization method gave us 5. 51% EXHIBIT 10. Both of these methods DGM and ECM are irrelevant to our analysis of Nike for the reason that given the recent history of Nike we aren’t dealing with a stable better yet mature company, therefore the choosing of those methods would be inaccurate. Our Recommendation
Given that we used an analytical approach to determine if Nike is undervalued or overvalued we wanted to assure our investors that we took diligent steps in determining this. As we mentioned earlier in the report we used two different methods to calculate the WACC. The geometric and the Arithmetic both were higher than Joanna’s but they still prove that the stock is undervalued by six to twelve dollars a share. As you can see from the report Exhibit 11 shows that we used market values to determine the cost of equity. Overall the geometric gives us an equity value of $48. 0 and the arithmetic gives us an equity value of 58. 46 a share. We feel confident that our analysis gives us a clear and concise picture of where Nikes stock is heading in the future. Our Recommendation is that Nike is strong buy most appropriate for a long term investment ranging from 5-10 years. Given the different opinions on dividend payout it may also be appropriate for investors who prefer a portfolio with dividend payout. Our Conclusion Given that this case was in past we can actually see what really did happen and verify our predictions of Nike.
If you look at Exhibit 14 you will notice that in the next couple years the Nike stock shoots up from its price at 42. 09 in 2001 to where it currently is today at 89 dollars share, which means that their projections were successful. Obviously this can only be done in the scenario we are in but it is nice to see the results of our analysis and to be able to compare it to what happens in the markets. Even thought the stock dropped after the bubble in 2008 it continued to climb. We hope that you find our analysis insightful and thank for you time today.
